Murābaḥa (, derived from ribh , meaning profit) was originally a term of fiqh (Islamic jurisprudence) for a sales contract where the buyer and seller agree on the markup (profit) or "cost-plus" price for the item(s) being sold. In recent decades it has become a term for a very common form of Islamic (i.e., "shariah-compliant") financing, where the price is marked up in exchange for allowing the buyer to pay over time—for example with monthly payments (a contract with deferred payment being known as bai-muajjal). Murabaha financing is basically the same as a rent-to-own arrangement in the non-Muslim world, with the intermediary (e.g., the lending bank) retaining ownership of the item being sold until the loan is paid in full. There are also Islamic investment funds and sukuk (Islamic bonds) that use murabahah contracts.Jamaldeen, Islamic Finance For Dummies, 2012:188-9, 220-1
The purpose of murabaha is to finance a purchase without involving interest payments, which most Muslims (particularly most scholars) consider riba (usury) and thus haram (forbidden). Murabaha has come to be "the most prevalent" or "default" type of Islamic finance.
A proper murâbaḥah transaction differs from conventional interest-charging loans in several ways. The buyer/borrower pays the seller/lender at an agreed-upon higher price; instead of interest charges, the seller/lender makes a religiously permissible "profit on the sale of goods". The seller/financer must take actual possession of the good before selling it to the customer, and must assume "any liability from delivering defective goods". Sources differ as to whether the seller is permitted to charge extra when payments are late, with some authors stating any late fees ought to be donated to charity, or not collected unless the buyer has "deliberately refused" to make a payment. For the rate of markup, murabaha contracts "may openly use" riba interest rates such as LIBOR "as a benchmark", a practice approved of by the scholar Taqi Usmani.
Conservative scholars promoting Islamic finance consider murabaha to be a "transitory step" towards a "true profit-and-loss-sharing mode of financing", and a "weak" or "permissible but undesirable"Farooq, Riba-Interest Equation and Islam, 2005: p.35-6 form of finance to be used where profit-and-loss-sharing is "not practicable." Critics/skeptics complain/note that in practice most "murabaḥah" transactions are merely cash-flows between banks, brokers, and borrowers, with no buying or selling of commodities; that the profit or markup is based on the prevailing interest rate used in haram lending by the non-Muslim world; that "the financial outlook" of Islamic murabaha financing and conventional debt/loan financing is "the same",| Qazi Irfan |July 22, 2008 | Social Science Research Network as is most everything else besides the terminology used.
Religious justification While orthodox Islamic scholars have expressed a lack of enthusiasm for murabaha transactions, calling them "no more than a second best solution" (Council of Islamic Ideology) or a "borderline transaction" (Islamic scholar Taqi Usmani),Usmani, Historic Judgment on Interest, 1999: para 227 nonetheless they are defended as Islamically permitted.
According to Taqi Usmani, the reference to permitted "trade" or "trafficking" in Quran verse 2:275:
refers to credit sales such as murabaha, the "forbidden usury" refers to charging extra for late payment (late fees), and the "they" refers to non-Muslims who didn't understand why if one was allowed both were not:Usmani, Historic Judgment on Interest, 1999: paras 50, 51, 219
the objection of the infidels ... was that when they increase the price at the initial stage of sale, it has not been held as prohibited but when the purchaser fails to pay on the due date, and they claim an additional amount for giving him more time, it is termed as "riba" and haram. The Holy Qur'an answered this objection by saying: "Allah has allowed sale and forbidden riba."Usmani, Historic Judgment on Interest, 1999: para 219
Usmani states that while it may appear to some people that allowing a buyer more time to pay for some product/commodity (deferred payment) in exchange for their paying a higher price is effectively the same as paying interest on a loan,Usmani, Historic Judgment on Interest, 1999: para 223 this is incorrect. In fact, just as a buyer may pay more for a product/commodity when the seller has a cleaner shop or more courteous staff, so too the buyer may pay more when given more time to complete payment for that product or commodity. When this happens, the extra they pay is not riba but just "an ancillary factor to determining the price". In such a case, according to Usmani, the "price is against a commodity and not against money" — and so permitted in Islam. When a credit transaction is made without the purchase of a specific commodity or product, (i.e. a loan is made charging interest), the added charge for deferred payment is for "nothing but time", and so is forbidden riba.Usmani, Historic Judgment on Interest, 1999: para 225 However according to another Islamic finance promoter—Faleel Jamaldeen -- "murabaha payments represent debt" and because of that are not "negotiable or tradable" as Islamic finance instruments, making them (according to Jamaldeen) unpopular among investors.Jamaldeen, Islamic Finance For Dummies, 2012:220
Hadith also supports use of credit-sales transactions such as murabaḥa. Another scholar, M.O.Farooq, states "it is well-known and supported by many hadiths that the Prophet had entered into credit-purchase transactions (nasi'ah) and also that he paid more than the original amount" in his repayment.Farooq, Riba, Interest and Six Hadiths, 2009: p.112
Usmani states that "this position" is accepted "unanimously" by the "four [ Sunni ] schools" of Islamic law and "the majority" of the Muslim jurists. Murabahah and related fixed financing has been approved by a number of government reports in the Islamic Republic of Pakistan on how to eliminate Interest.
Late payment Usmani presents a theory of why sellers are allowed to charge for providing credit to the lender/buyer, but are guilty of riba when charging for late payment. In a true (non-riba) murâbaḥah transaction (Usmani states) "the whole price ... is against a commodity and not against money" and so "... once the price is fixed, it relates to the commodity, and not to the time". Consequently "the price will remain the same and can never be increased by the seller." If the price had "been against time", (which is forbidden) "it might have been increased, if the seller allows ... more time" for repayment when the bill is past due.Usmani, Historic Judgment on Interest, 1999: para 224
(Usmani and other Islamic finance scholars agree that not being able to penalize a lender/buyer for late payment has led to late payments in murâbaḥah and other Islamic finance transactions. Usmani states that a "problem" of murabahah financing is that "if the client defaults in payment of the price at the due date, the price cannot be increased".Usmani, Introduction to Islamic Finance, 1998: p.91 According to one source (Mushtak Parker), Islamic financial institutions "have long tried to grapple with the issue of delayed payments or defaults, but thus far there is no universal consensus across jurisdictions in this respect.")
Islamic finance, use, variations Limits of use in fiqh In its 1980 Report on the Elimination of Interest from the Economy, the Council of Islamic Ideology of Pakistan stated that murabahah should be undertaken only when the borrower wants to borrow to purchase a some item must involve the item being purchased by the bank; coming under the ownership and possession of the bank; which must assume the risk for that item; the item then being sold to the customer through a valid sale;Usmani, Historic Judgment on Interest, 1999: para 190 be used to the "minimum extent" and only in cases where profit and loss sharing is not practicable.
Murâbaḥah is one of three types of bayu-al-amanah (fiduciary sale), requiring an "honest declaration of cost". (The other two types are tawliyah—sale at cost—and wadiah—sale at specified loss.)
According to Taqi Usmani "in exceptional cases" an Islamic bank or financial institution may lend cash to the customer for a murâbaḥah, but this is when the customer is acting as an agent of the bank in buying the good the customer needs financed. [W]here direct purchase from the supplier is not practicable for some reason, it is also allowed that he makes the customer himself his agent to buy the commodity on his behalf. In this case the client first purchases the commodity on behalf of his financier and takes its possession as such. Thereafter, he purchases the commodity from the financier for a deferred price.Usmani, Introduction to Islamic Finance, 1998: p.73
The idea that the seller may not use murâbaḥah if profit-sharing modes of financing such as mudarabah or musharakah are practicable, is supported by other scholars that those in the Council of Islamic Ideology.
Limits of use in practice But these involve risks of loss, profit-sharing modes of financing cannot guarantee banks income. Murabahah, with its fixed margin, offers the seller (i.e. the bank/financier) a more predictable income stream. One estimate is that 80% of Islamic lending is by murabahah. M. Kabir Hassan reports that murabaha accounts are quite profitable. As of 2005, "the average cost efficiency" for murabaha was "74%, whereas average profit efficiency" even higher at 84%. Hassan states, "although Islamic banks are less efficient in containing cost, they are generally efficient in generating profit."M. Kabir Hassan. "The Cost, profit and X-efficiency of Islamic Banks," 12th Annual Conference of Economic Research Forum, Egypt, 19–21 December 2005.
Islamic banker and author Harris Irfan writes that use of murabaha "has become so distorted from its original intent that it has become the single most common method of funding inter-bank liquidity and corporate loans in the Islamic finance industry." A number of economists have noted the dominance of murabahah in Islamic finance, despite its theological inferiority to profit and loss sharing.Iqbal, Munawar, and Philip Molyneux. 2005. Thirty years of Islamic banking: History, performance and prospects. New York: Palgrave Macmillan.Kuran, Timur. 2004. Islam and Mammon: The economic predicaments of Islamism. Princeton, NJ; Princeton University PressLewis, M.K. and L.M. al-Gaud 2001. Islamic banking. Cheltenham, UK and Northampton, MA, USA: Edward Elgar One scholar has coined the term "the murabaha syndrome" to describe this.Yousef, T.M. 2004. The murabaha syndrome in Islamic finance: Laws, institutions and policies. In Politics of Islamic finance, ed. C.M. Henry and Rodney Wilson. Edinburgh: Edinburgh University Press
The accounting treatment of murâbaḥah, and its disclosure and presentation in financial statements, vary from bank to bank. If the exact cost of the item(s) cannot be or are not ascertained, they are sold on the basis of musawamah (bargaining). Different banks use this instrument in varying ratios. Typically, banks use murabaha in asset financing, property, microfinance and commodity import-export. The International Monetary Fund reports that, Murâbaḥah transactions are "widely used to finance international trade, as well as for interbank financing and liquidity management through a multistep transaction known as tawarruq, often using commodities traded on the London Metal Exchange" (LME).